Question

Consider an asset that costs $501,600 and is depreciated straight-line to zero over its 6-year tax life. The asset is to be used in a 3-year project; at the end of the project, the asset can be sold for $62,700.

If the relevant tax rate is 25 percent, what is the aftertax cash flow from the sale of this asset?

• $109,725.00

• $454,587.00

• $104,238.75

• $115,211.25

• $47,025.00

Answer 1

What is the after-tax cash flow from the sale of this asset?

Answer: $109,725

Working

Since asset is sold at the end of the 3^rd year, in order to find the after tax cost from sale of the asset we need to find out whether sale will result in a profit or loss.

Calculation of profit or sale on sale

Sale value of the asset                                    = $62,700

Less book value at the end of 3^rd year            = ($250,800) (see note 1)

Loss on sale                                                    = $188,100

Sale of asset results in a loss of $188,100, which will give tax saving.

Tax saving       = Loss amount * Tax rate

                        = $188,100 * 25%

                        =$47,025

After-tax cash flow from the sale of this asset Calculation

After-tax cash flow from the sale of this asset      = Sale revenue + Tax saving

                                                                                                = $62,700 + $47,025

                                                                                                = $109,725

Note1

Book Value at the end of 3ed year calculation

Purchase price of Asset                                                          = $501,600

Less depreciation for 3 years (note2)                                                = ($205,800)

Book value at the end of 3^rd year                                           = $205,800

Note 2

Calculation of depreciation

Depreciation per year under straight line method = Purchase price ÷ Life of the asset

                                                                                    = $501,600 ÷ 6

                                                                                    =$83,600

There for depreciation for 3 years     = $83,600 * 3

                                                            = $250,800